KARACHI: Pakistan’s commercial banks continued to lend freely to the cash-strapped government at increased rates of return, raising their funding to a record 93% of total deposits in January 2024.
However, bank lending to the private sector stagnated at an eight-month low of 44% of deposits in January, according to data compiled and shared by Optimus Capital Management (OCM). Higher inflation and interest rates did not allow businesses to expand their production lines and also set up new factories.
Bank deposits fell to Rs 27.54 trillion in January compared to Rs 27.84 trillion in December 2023 as “wealthy depositors apparently withdrew the cash they deposited in December at the request of banks to allow financial institutions to keep their books with good numbers. ” said Arif Habib Limited (AHL) economist Sana Tawfik during an interview with The Express Tribune.
She said the government’s dependence on domestic debt has been increasing due to less inflow of foreign loans for quite a long time.
The data indicated that banks invested Rs25.60 trillion in government debt securities such as government bonds, Pakistan Investment Bonds (PIBs) and Sukuk out of total deposits of Rs27.54 trillion. This led to an increase in the investment-to-deposit ratio (IDR) to an all-time high of 93% in January.
The IDR was at 85% in January 2023 and 91% in December 2023 a year ago.
Government borrowing from domestic banks is on the rise to finance the deepening fiscal deficit mainly due to significantly high interest costs on debt. A record high base interest rate of 22% is estimated to push interest payments past 8 trillion rupees this fiscal year.
A one percentage point increase in interest rate increases interest costs by around Rs 200-250 billion annually. Between September 2021 and June 2023, the central bank raised its key monetary rate by 15% cumulatively.
Financial markets are hoping that the central bank will start cutting the key interest rate in March or April this year, which will lead to lower interest payments and encourage private businesses to borrow from banks for their existing and new investment projects.
The government continued to increase borrowing from commercial banks after the International Monetary Fund (IMF) barred it from borrowing from the State Bank of Pakistan (SBP) in mid-2019. Central bank lending is believed to trigger inflation in the economy.
Credit to the private sector
Credit flow to the private sector remained stagnant at Rs 12.09 trillion in January 2024 out of total deposits of Rs 27.54 trillion, pushing the deposit-advance ratio (ADR) to 44% for the second consecutive year. Moon.
ADR has been on the decline over the previous eight months, reaching 44% in December 2023 compared to 52% in April 2023.
AHL’s Tawfik said ADR also fell due to a change in banks’ strategy to take maximum deposits in the last year compared to their reluctance to take more deposits in December 2022.
She recalled that the government imposed a tax on those banks whose ADR was lower than 50% in 2022. Banks therefore increased the ratio by reducing the level of their deposits. Later, the government suspended the tax.
Market discussion suggested that the tax may be reimposed at a lower ADR this year to encourage financial institutions to lend maximum funds to the private sector to kick-start economic activities, she said.
Bank deposits
Customer deposits with banks decreased in January compared to December 2023. However, over the past year, they have grown by 21% to Rs 27.54 trillion in January 2024 compared to Rs 22.75 trillion in the same month last year.
Tawfik said bank deposits grew due to two main reasons – conversion of workers’ remittances into Pakistani rupees and soaring government debt from local banks. Both transactions are listed as deposits. Local relatives of overseas Pakistanis who send money back home deposit it in banks.
She pointed out that the government borrowed from banks to finance the deficit, but money continued to remain parked in banks, inflating the size of deposits.
Negative return
Excessive lending to the government sometimes occurs through bank loans from the central bank.
Sometimes banks borrow expensively from the central bank at more than 22% and lend to the government at a rate below 22%, taking a hit on their returns which are slightly negative.
However, banks provided most of the loans through deposits and partially met the government’s funding requirement through loans from the central bank.
Tawfik said banks are doing so on the expectation that the central bank will cut interest rates soon, which will lead to margins turning positive.
